Am I Still Bearish? Sort of Not

I have had very light equity exposure for an extended period of time with periods of being net short to being fairly long. Fortunately, with the indices having been range bound, the opportunity cost has been insignificant. As I mentioned in a prior note being bearish is exhausting, lonely and counter to my natural optimism (although I do admit to always maintaining a healthy dose of cynicism). Imagine taking your child to see 101 Dalmatians and loudly rooting for Cruella deVille to come out on top. Your kid shrinks away to another seat on the other side of the theater while others shun you. That’s how bears are treated.

I continually second guess my investment thesis, trying to see what the other side sees. I weigh the inputs underlying my stance, marking them to market. I try to remove the bias of my position as I seek additional data that is either supportive or unsupportive of my position. And of course, there is always the fear of acting from emotion that prompts a change in thinking, a feeling that you weren’t invited to the party, of being left out. And most of all, there is that greatest fear of all, of having reversed course at absolutely the wrong time. And in full disclosure, I have not always made the turn in a very timely fashion. I did well in 2008 but hardly made any money in 2009. Although I was still ahead of the game, it still didn’t feel good missing out on a ripping bull market move.

So where am I now? I am warming up to the market. Why? Well, I have often said I have seen this movie before and it ended badly but maybe there will be a different ending to this installment because everyone else had also seen the prequel to the 2011 financial crisis. My ending has banks struggling to raise capital, some, like Dexia or perhaps Greece, going belly up, credit continuing to tighten, economies contracting – the culmination of all these fears and others I haven’t listed causing a massive wave of selling. But guess what? Merkel and Sarkozy and the more responsible members of the G-20 and EU were also around in 2008 and they have no interest in revisiting that scenario. Granted they have waited too long and the cost of delay has ratcheted up the price of a cure. Germany and France have the most to lose by not putting forth a viable solution. While expectations for a total and complete solution are still high, they have been ratcheted down enough to be attainable, or near attainable with the promise to be completely resolved in the next 3 to 6 months. Shock and awe is not in the cards and everyone knows it. But will they give us enough to put a floor under the market and cause under invested funds to chase performance? I think so.

Swimming upstream, against the tide of bullishness that is the unwavering stance by the vast majority of pundits and market participants is difficult enough but imagine the flood gates being opened and the water gushing at you as you flutter kick your portfolio like a foam kickboard. The world is awash in liquidity. It all comes down to not fighting the Fed. But the much maligned U.S. Fed has recruited a legion of Central Bankers to fight the battle: the EU, IMF and China. This is a massive liquidity push by every printing press on the planet. So for now, I am entering into surrender negotiations and further increasing my exposure further.

I am by no means becoming fully invested for I still have that evil twin whispering in my ear. The global economy is in terrible shape but what do I know that others don’t? I don’t have an edge on China – it’s a property bubble that has already begun to leak – but the Chief Communist (as opposed to Chief Economist) knows that. I think that will end ugly but they can throw enough money at it in the interim to allow the S&P to rise to 1250, a random number, while their market declines. Europe is in recession but that thinking is convention and is nothing that $1.3 trillion can’t cure.

The most alpha will likely be generated through commodities and materials – the most economically sensitive investments – but I can’t go all that way in. There is too much risk in case I am wrong. I do like the fertilizer companies for the long term and although recovering, they have been beaten worse than a Middle Eastern dictator. I still prefer the more boring fundamentally, bottoms up investments epitomized by MDRX, KO, QCOM, WLP, NIHD. My risk is in bottom fishing on HPQ and, dare I admit it, RIMM. I cut back my Euro short against the dollar but will rebuild that position again at some point.

How long the cure lasts is what keeps a lid on my exposure. At some point austerity leads to slower growth and U.S. economic policy is non-existent as Washington remains rudderless. Everyone believes China will bail out every local government, corporate and individual spectators but I don’t. After all, they are communists and not prone to providing handouts to failing billionaires or local governments who have repeatedly disobeyed central government directives. There will be some pain to teach them a lesson.

I won’t be discouraged if there is a sell on the news mentality once the EU deal is announced. And I am rooting for another delay in the announcement because that means they are still arguing – eh, negotiating. And I expect leaks from the negotiations to cause some volatility. We should continue to move higher, perhaps rally 20% before going lower, likely hitting prior lows.

Whoops, there I go again.

8 Responses to “Am I Still Bearish? Sort of Not”

  1. 1 Ben Hoben (@benhoben25) October 21, 2011 at 1:19 pm

    Stephen, good post. I’ve been bearish for a couple months because of three things:

    1. Us economy slowing
    2. Europe
    3. China slowing

    I’m now starting to rething based on #1 the US does seem to be stagnant but 3rd quarter earnings and guidance wasn’t lowered for the 4th quarter; #3 Europe seems to be inching towards a solution, while it may be just a band-aid and kicking the can down the road, it will satisfy the market for awhile; and #3 data coming out of China doesn’t seem to show a hard landing.

    Right now I’m starting to lean nuetral. It’s hard to get bullish with as big of a move as we’ve had the last two weeks. Plus the drop in Dr. Copper concerns me.

    • 2 stephenlweiss October 21, 2011 at 1:26 pm

      All true but my point is that this is a temporary move in a bear market. Copper is one tell but well advertised and we don’t know how well that is being played by the Chinese to drive prices lower. A good part of that move is economic weakness exacerbated by China manipulating lower. Steel continues to go down. Overall, global economy is in bad shape and markets will feel that impact for sure.

  2. 3 Bill Wolkstein October 21, 2011 at 3:25 pm

    Stephen: Very thoughtful post. I was struck by a Bill Gross Twitter post this morning; ” Enjoy it while you can. Critically, developed world growth is the driver of risk assets, slow/no growth = poor outlook for same.” Maybe so, but US corporate earnings have been very good if not excellant. China looks like it is in for a soft landing and not falling apart. EU perhaps in recession, can this bring US down? Europe will work out a short term bailout for debt crisis, so in the mean time we go higher. Hard to wade in full force after this run-up. I’ll stick with large positions in QCOM, CELG, MCD, D, DD, DE.

    • 4 stephenlweiss October 21, 2011 at 4:42 pm

      Yup. Not in market full force by any stretch. I’m not as convinced about an ultimate soft landing in China but for now it doesn’t matter. Also may see Europe negotiations hit some bumps along the way.

  3. 5 Ravi October 21, 2011 at 6:01 pm

    Another 20% from here would be a new high since the crisis in 2009. Hard to bet on it with economies slow at best.

  4. 7 Ravi October 27, 2011 at 7:04 pm

    Your analysis is sound and more importantly, the timing is impeccable.

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